Dear Garden State Trust:
How much longer will these low interest rates last? As the bonds in my portfolio mature, I’m having a really hard time replacing their income.
—Frustrated Bond Investor
I’m afraid that the very low interest rates we have today will not soon change. Interest rates are being kept low to prevent an economic collapse from the pandemic. The hopes that the disease would abate in the summer proved overly optimistic. Unemployment remains unacceptably high, and there is no hint of inflation. I know of no one who thinks the Fed will raise rates for the rest of this year, and next year is possible but not likely.
That is because the Fed announced a major policy shift in August. Instead of targeting a 2% inflation rate, as has been the practice for years, the Fed is now aiming for an average inflation rate of 2%. Inserting “average” into that phrase means that future periods of higher inflation first will be offset by the current low inflation experience, which will delay the Fed response of raising short-term rates.
That may not sound like much, but had the policy been in place in 2015 the Fed would not have raised rates then. In fact, The Wall Street Journal editorialized about the change in “Low Rates Forever!” The upside of the new policy is that the Fed will no longer presume that low unemployment causes inflation. The downside is that all the political pressures will be to keep interest rates low, perhaps indefinitely.
You may need to consider dividend-paying stocks to replace that portfolio income as your bonds mature. We’d be happy to meet with you to discuss investment strategy in more detail.
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